Robinhood founder defends trading restrictions

Robinhood: Why are traders bringing a class action against share-dealing app?

Court filing claims company acted 'knowingly to manipulate the market for the benefit of people and financial institutions who were not Robinhood's customers’

Ben Chapman@b_c_chapman
Friday 29 January 2021 20:44

Investment platform Robinhood has been hit with a class action lawsuit in the US after it prevented people buying shares in GameStop and some other companies that had seen big swings in prices and a high volume of trading.

Scores of amateur investors cried foul, suggesting Robinhood had acted against the interests of ordinary investors to help financial firms that had bet against GameStop and did not want to see its price go up any further.

Shares in GameStop, Nokia and AMC fell sharply after trading was suspended, resulting in losses, on paper at least, for some traders who had backed the stocks.  

Is this really a conspiracy against average Joe investor, or is there a more mundane explanation?

What does the legal action say?

The legal action filed in New York on Thursday, claims that Robinhood rigged the market against its customers, a claim that the company denies.

"Robinhood's actions were done purposefully and knowingly to manipulate the market for the benefit of people and financial institutions who were not Robinhood's customers," the lawsuit states.

It claims that Robinhood's decision deprived retail investors of potential gains they could have made by buying when the share price was lower and selling when it increased.  

Congress even became involved with Representative Alexandria Ocasio-Cortez calling for a probe into Robinhood, and Senator Ted Cruz backing the move.

Some social media accounts claimed that billionaire financier Ken Griffin had pressured Robinhood to suspend trading to benefit his own company, Citadel Securities, which executes trades for Robinhood.  

Citadel, and other "market-makers" pay Robinhood to execute the trades, putting themselves in the middle between the app user and the person who takes the other side of the bet. Market makers earn a profit by giving a slightly different price to buy and to sell, known as the spread.

Rumours were fuelled by the fact that another company in the Citadel group was one of two funds to pump $2.75bn into Melvin Capital, a hedge fund that got itself into trouble by betting against GameStop.  

However, there is no evidence that Citadel had any influence over Robinhood's decision. Mr Griffin flatly denies any involvement in it.

“Citadel is not involved in, or responsible for, any retail brokers’ decision to stop trading in any way,” a spokesperson for the hedge fund said.

“Citadel Securities has not instructed or otherwise caused any brokerage firm to stop, suspend, or limit trading or otherwise refuse to do business,” the statement added. “Citadel Securities remains focused on continuously providing liquidity to our clients across all market conditions.”

So what is the explanation?

The company said in a blog post that the move was to “protect investors” from volatility - an explanation that did little to lessen those investors’ anger.

“To be clear, this was a risk-management decision, and was not made on the direction of the market makers we route to.”

It is likely that the reason behind the suspension was more mundane than a conspiracy to protect hedge funds.

Many Robinhood traders do not actually buy and sell shares but instead bet on them using options, the value of which goes up and down depending on the value of the relevant company.

This creates a risk that the customer will not have enough money to cover the losses on the trade. Robinhood takes on some of this risk so it has to ensure it keeps enough money aside to stick within regulations designed to make the financial system safer.

The huge increase in options trading meant Robinhood needed more money to ensure it kept to the rules. It managed to secure an extra £1bn of funding to do this and so opened “limited” trading in the affected shares on Friday.

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